Foreign Investment in China

Spain lawyersTwo of my firm’s Spain lawyers are in town this week and they yesterday explained to us the advantages for foreign countries to form Spain entities before going into Latin America and the Caribbean. They explained how Spain has long-standing, well-tested agreements with 19 such countries that not only provide favorable treatment, but require these 19 countries to in all respects treat Spanish companies exactly as they treat domestic companies. This privileged position for Spanish companies has led companies from all around the world to set up a Spain business entity for going into the Caribbean and Latin America.

At the start of the e-commerce boom, our international lawyers did a steady business with mostly European companies that wanted us to set up United States companies for them so that they would appear more trustworthy to American consumers shopping online. Over the years we have also formed U.S. companies for many service companies (especially in the global construction industry) that want to bid on big projects as an American company rather than as a company in a country whose construction prowess is not viewed as highly,

And then there was the period in which we formed countless companies for Chinese businesses that wanted to return to China as a U.S. company so as to be able to secure various tax and other benefits China was giving to foreign companies to spur foreign direct investment. See China’s New Foreign Investment Law — Less Than Meets the Eye. My personal favorite is forming United States companies for foreign companies in countries where domestic businesses are far more likely to get shaken down by government agencies and/or local gangs than foreign companies.

What’s all this got to do with China though?

Let me explain….

If you have not been living under a rock for the last year you know that relations between China and the United States/most EU nations/Australia/Japan/South Korea/Vietnam (just to name a few) have not exactly been great of late. But the frostiness of those relationships is nothing as compared to the tension between China and Canada. Earlier this week, China imposed the death penalty on a Canadian convicted of drug smuggling, after previously having sentenced this person to 15 years and yesterday, China threatened reprisals if Canada bans Huawei from its 5G networks. If you are a Canadian company and you need to realize that “business as usual” in China or even with China is no more.

So let’s just say you are a Canadian company looking to form a WFOE in China today. Do you go into China as a Canadian company or do you at . least consider forming a new company in some other country first and then using that third country company to go into China? Six months ago, our China WFOE lawyers would not even have pondered this question but now we do. This is not a simple question because forming a new company in a third country has all sorts of costs and because China requires you reveal ownership of your WFOE forming entity, forming a new third country company must be done in such a way so as to comply with China’s WFOE laws while at the same time not revealing the downstream Canadian ownership. How to Form a China WFOE: Revealing Investor Ownership is NOT Optional.

What if you are a Canadian company that has for the last five years successfully sold your factory equipment into China? Should you form a new sales entity in a third country so as to increase the likelihood of being able to maintain sales? No way to answer that in a blog post, but certainly this should be considered. If you have a Canadian and a Costa Rican passport, which one do you use on your next trip to China? This one is easy: welcome to China señor.

Welcome to the frenemy era. Welcome to the New Normal.

 

 

Field of Dreams. Iowa. Photo by JoeyBLS

Got a rather harsh (to put it mildly) email today, from a clearly disgruntled reader. So disgruntled in fact that my entire email response consisted of the following:

One of the things I have learned is to avoid the things that aggravate me and that I can easily avoid. I simply find it better to watch Netflix or read a good novel than to wallow in those things that anger me. I am not trying to tell you how to lead your life but it does seem to me that you would be doing yourself a big favor by ceasing to read our blog or our Facebook page –whhich seems to piss this person off even more than our blog. [NOTE: I did not link over to our China Law Blog Facebook page in my email response, but I am doing so now in a shameless effort to get more readers on there].

Anyway, if you spent the time parsing through the multiple f-bombs and comments regarding my intelligence (or, more accurately, the lack thereof) the gist of this email was that when we first started this blog we told the truth about China but we’ve now become such Trumpites (the emailer constantly used that term, which I think is actually the first time I’ve ever heard it so kudos for that one) that we’ve become “blinded to reality.” He actually cited to a post I did way back in 2006, entitled China Through Rose Colored Glasses as proof that my own mental faculties are in decline and that I am “choosing to be a Trumpite over accuracy and telling the truth.”

WRONG. And below is the email I initially wanted to write until the Zen side of me wisely took over.

I do not know where you get the idea that I am a Trumpite. To the extent that means I have ever or will ever support President Trump, you could not be more wrong as I dislike pretty much everything about him. I vehemently disagree and dislike his politics,  his character, and what he is doing to my country and to the world. The mere fact that we may agree on a few things regarding one country (China) does not make me a Trumpite and your accusations of that are way off base and only reveal your irrationality.

Anyway, I did use to view China with rose colored glasses both because I was younger and more naive back then because there was a lot more evidence back then to do so.

I now wear emphatically clear reading glasses (from Warby Parker, and which I did not need back in 2006) and though I would not describe myself as a China Bear, I do strive to be a China realist — which is pretty much the same way I viewed myself back in 2006 as well. But things have changed in China since I wrote that 2006 post and if you disagree with me on this, fine, but I find your putting all the change on me rather naive. When I wrote that post I saw the problems in China (including many of the same problems that are causing so much of the world to view China so suspiciously today) but back then, China was relatively new to the international trade game and to IP protections. And so, like a promising major league rookie, I (like so many others) was willing to focus more on China’s incredible potential than on its weaknesses. But just as I can accept rookie mistakes from a rookie while at the same time getting incredibly irritated when I see those same mistakes in a ten year veteran, I feel entirely justified in now being tired of waiting for China to reach a point where its economy is as open to foreign companies (or protects intellectual property) at a level similar to those countries with which it primarily does business.

But just to be clear, I am no fan of Trump and I have serious reservations about how he is trying to stop China from being such a bad actor on the world economic stage. But it is true that I am incredibly frustrated with how China treats foreign companies (i.e., my own clients — many of whom I consider my friends — and most of whom are based in the United States, Canada, Australia, Great Britain, Spain, France, Germany, Latin America, and Northern Europe.

And look, I understand that your livelihood depends almost entirely on China (I searched his email and determined this), but I can also tell you that is exactly why you should step back and look again and make sure you are in fact seeing things as they are and not just as you appear to so desperately wish them to be. I too wish they were otherwise, but I am not willing to compromise my objectivity so as to make true what I see to be false.

Am I off base here or just too jaded (like pretty much everyone who has had to fight against China for a decade or more) or a bit of both?

China joint venture lawyers
Photo by Bill Ebbesen, from Wikimedia Commons

Well I was stranded in the jungle
trying to take in all the heat they was giving
The night is dark but the sidewalk’s bright
And lined with the light of the living
From a tenement window a transistor blasts
Turn around the corner things got real quiet real fast
I walked into a Tenth Avenue freeze-out
Tenth Avenue freeze-out
And I’m all alone, I’m all alone
And kid you better get the picture
And I’m on my own, I’m on my own
And I can’t go home.

Bruce Springsteen, Tenth Avenue Freeze Out

 

For at least a decade now our clients have told us that one of the reasons they want to do a China Joint Venture (as opposed to just contracting with their putative JV partner) is because they “want to share in the upside when the joint venture goes public.” I . don’t know about the rest of you out there but I don’t think any of our China lawyers have ever seen that happen.

Instead, what we so often see is what we (and others) call the China going public squeeze out or, as I prefer, the China going public freeze out.

The below is an amalgamation of emails we have written in these situations over the years, with anything that could even remotely identify any client or Chinese company either changed or removed.

We have completed our basic research and understand the situation regarding [China Joint Venture Company A}.

The most recent data we obtained was for 3/5/2018. This is based on the annual report for 2017. JV Company events for 2018 have not yet been reported.

1). Under PRC law, [China Joint Venture Company A] is a Sino Foreign Equity Joint Venture. In the most recent documentation available to us, there are THREE foreign shareholders [Note that at least half the time our client believed it to be the only foreign shareholder:

a. You hold 1,122,000 shares.

b. {XYZ LLC], a California LLC formed in June 2015: holds 2,200,000 shares.

2. [ABC LLC], a Texas LLC formed in March 2016 holds 780,000 shares.

3. [China JV Company was listed on the NEEQ over the counter exchange about 15 months ago. The purpose of these listings is to sell shares to the investing public as an unlisted public company.

3. The Chinese owners of [China Joint Venture Company A] want to convert the entity from a FIE (foreign invested enterprise) to a wholly Chinese invested enterprise. To do this, they must remove all three foreign shareholders as owners.

4. It is not clear what their plan is for the other two shareholders as the plan you provided us is the proposal just for you. This is known as a “squeeze out” of the foreign owners of a PRC JVC. This is a very common final result when joint ventures are successful. The result for the foreign owner is seldom economically attractive. The current proposal is an example of that.

You seek to sell your stock in [China Joint Venture Company A] in a way that will allow you to participate in any increases in company/stock value over the next several years. You want to receive the proceeds of sale of the stock in U.S. dollars paid to your U.S. account after deducting the appropriate taxes. In a JV shareholder squeeze out it is normal for the Chinese side to make a cash payment to the foreign shareholder at a substantial discount to actual value. We have to encounter an instance where the Chinese side paid full value and also committed to making payments for future value of the foreign shareholder’s ownership interest.This has been true of both big and small joint ventures.

Even in cases of a buy-out with an immediate payment, the Chinese side will often claim to be unable to transmit its payments out of China. The Chinese side will push for the foreign party to open a Chinese bank account where it can deposit the payment funds in RMB. It is then incumbent upon the foreign side to converting the RMB to U.S. dollars and then transmit those funds from China to its home country. This has always been difficult to do and with China’s heightened concern regarding offshore payments, this has become even more difficult. For this reason, you should not allow yourself to be removed from [China Joint Venture Company A] until after you receive payment.

To protect you interests and achieve your goals, you should structure a simple program as follows:

1. A Chinese party you trust buys your stock at its current value and pays for it in U.S. dollars by wiring those funds to you in the United States after deducting applicable taxes.

2. After you receive the funds in the United States, you will resign as a director at [China Joint Venture Company A]. The paperwork can be done in advance and deposited with legal counsel to be executed when you receive confirmation of successful wire transfer into your U.S. bank account.

The above two procedures are the standard way to structure this sort of buy-out. This structure is the best way to ensure you will actually receive payment for your shares. Using a delayed payment structure or a nominee relationship would expose you to near infinite risk and it is not appropriate for you to have to take that risk when you are being “squeezed out” as a benefit to the company (but not to you).

3. To achieve your additional goal of sharing in future stock appreciation, the purchaser of the stock will be required to pay you annually an amount equal to the increase in the value of the stock as measured over the previous year. You will have to determine how many years this payment rule will be in place: five to ten years would be appropriate. To make these payments, the party who purchases your stock will be able to sell a portion of the stock purchased to cover this increase in value. Your payment would be received after deduction of all taxes. This is an unusual arrangement and though it will be relatively easy for us to draft the appropriate document, it holds the following risks:

a. The buyer of the stock should be an entity you trust. In this case, the buyer of the stock should be ______ since it is not likely to disappear and it will likely to honor its commitment to make a payment now and to make the later payments for any increase in stock value. If you enter into an agreement with one of the investment limited partnerships, there is a significant risk they will default or simply disappear at some later date. This happens regularly in China.

b. Though the commitment to pay can be clearly documented, since the procedure is unusual, there is always the risk that the foreign exchange bank or the Chinese tax authorities or the NEEQ exchange will block the payment. This risk can be mitigated by structuring the additional payments as part of the purchase price for the stock: some form of installment payment sale. It is always difficult to say what the Chinese authorities will do, particularly where the paying entity has no reason to be a strong advocate for approving the payment.

The way to mitigate this risk is to require the initial buy out payment to be priced to include a projected increase in value and then price the shares at that increased value. This increased price is your compensation for agreeing to allow yourself to be squeezed out of a profitable joint venture.

The deal structure proposed by the Chinese side does not meet your goals. Nominee shareholding arrangements are disfavored under Chinese law and this is particularly true when the purpose of the nominee arrangement is to hide the true ownership structure of a company that holds itself out to the public as a wholly Chinese owned entity. In addition, the NEEQ rules require absolute transparency of ownership structure and nominee arrangements violate NEEQ rules.

To summarize:

1). You should not give up your position in [China Company A] until after you receive a cash payment (via wire) into your U.S. bank account.

2. The issue is the sale price. You can set the price equal to an estimate of the growth value of the shares over some period, say five years to ten years. That premium over current price would then be your compensation for agreeing to the buy out. Or you can accept a riskier arrangement where you get annual payments reflecting the increase in stock value over the prior year.

3. You should not agree to a nominee arrangement that does not involve a substantial pay out to you now. If you do agree to a nominee arrangement, you should use a formal shareholding trust agreement which is possible under Chinese law. The risk of your using nominee shareholding cannot be eliminated and the experience of Taiwanese, Korean and Hong Kong investors who have used nominee shareholding arrangements over the past 15 years has not been good. Contracts intended to avoid Chinese law requirements or that mislead the public are void and that is what the courts usually decide when such contracts are challenged. You don’t want a law suit: you simply want to receive fair payment for your stock.

Please let us know how you wish to proceed. We can draft the documents (in Chinese as the official language and in English for you) appropriate for whatever structure you decide to follow.

 

International lawyers

Oh, baby this town rips the bones from your back
It’s a death trap, it’s a suicide rap
We gotta get out while we’re young
Cause tramps like us, baby we were born to run

    From Born to Run, by Bruce Springsteen

About a month ago, I wrote what I will now call Part 1 of this series: Would the Last Company Manufacturing in China Please Turn Off the Lights. After reading James Areddy’s excellent Wall Street Journal article, Wall Street Journal article, American Entrepreneurs Who Flocked to China Are Heading Home, Disillusioned, I feel compelled to write part 2.

The gist of Areddy’s article is that American entrepreneurs are tired of China and leaving in droves and it cites a boatload of statistics backing this up. According to Areddy, “disillusion” has set in among expats in China, “fed by soaring costs, creeping taxation, tightening political control and capricious regulation that makes it ever tougher to maneuver the market and fend off new domestic competitors. All these signal to expat business owners their best days were in the past.” Yes, but this is just the half of it. The other half is the more visceral feelings of those who are fleeing and Areddy nicely captures that too, as reflected in the following quotes from the article:

  1. “He lost the feeling ‘it’s all happening’ in Shanghai and will try Thailand.”
  2.  “It’s harder for them [foreign entrepreneurs] to live here now.”
  3. “How can it be that those who know China best, work there, do business there, make money there, and have advocated for productive relations in the past, are among those now arguing for more confrontation?” former U.S. Treasury Secretary Henry Paulson asked at a November conference in Singapore.
  4. “The label of ‘foreigner’ is always on your forehead.”
  5. “China started to become less clear about what the endgame was for foreigners.”

The article notes how the climate for foreign businesses took a downward turn in around 2012 when Chinese government authorities “stepped up scrutiny of visas. . . ., reinforced China’s Great Firewall of internet controls. . . and [set up a situation where] big domestic tech firms thrived while laws excluded foreign rivals or pressured them to share technology.”

The international lawyers at my firm have heard some variation of all of the above countless times from our own clients, and not just Americans; we hear it from our Canadian and our European and our Australian clients in roughly the same proportion.

And yet, most of the China complaints we hear are from companies that intend to STAY in China because the economics for doing so are still there. These companies are calling us seeking help to stay in China. Some of them are downsizing and seeking help in dealing with China’s complex employee termination laws. Some are looking for employment benefit advice in an effort to keep their foreign employees who want to leave. Most are calling for advice on how to make things better/safer for them in China. I alone have gotten more than a dozen calls/emails since China threatened “grave consequences” against Canada over Meng Wanzhou’s arrest.

What will China do against Canadian and U.S. companies and personnel? Hard to say, but if past history is any predictor of future performance (and we all know that it is), you should expect China to (at minimum) continue to step up enforcement of its existing laws against all foreigners, but particularly against Americans and Canadians. If you are a regular reader of this blog, you know this sort of thing isn’t new as China has been stepping up its enforcement against foreign companies pretty much since we started this blog more than a decade ago. Way back in 2012, in a post entitled China’s Business Law Trends for 2013. we listed the following as the top three of four things to expect for 2013:

1. China will step up even further its crackdown on foreigners in China violating its visa/immigration laws. If you lack an employee visa, you are  at risk. Yes, this is more likely to impact you if you are from Africa or the Middle East, but we are definitely hearing of increased problems for Americans and Europeans too.

2. China will increase its efforts to root out and shut down illegal and unregistered foreign businesses. China has especially stepped up its enforcement against American and European companies that operate in China but have an entity in Hong Kong without one in the PRC.  We have seen such an increase in this over the last six months that we are wondering if maybe the PRC is using a Hong Kong list.  Providing jobs to Chinese citizens does not let you off the hook on this one. Trust me on that.

3. China will increase its tax collection efforts. This has been going on for years now and if you are doing business in China already I am guessing that your response to this is “yeah, so.” In particular, China has stepped up its transfer pricing efforts and so if your China operations are not making a healthy profit, be prepared for the government to impute healthy profits to it. If you do not already have a good China accountant, get one.  Now.

In response to Meng Wanzhou’s arrest China’s foreign ministry has said: “China always protects the legitimate rights and interests of foreigners in China. But they should also abide by all Chinese laws and regulations.” See this Financial Times article, Chinese and US executives worry after Huawei CFO’s arrest. Right now anyway, I pretty much take them at their word, but this is a double-edged sword. This means that if you are abiding by Chinese law you should be fine, but it also very likely means that if you are not, you are likely at great risk.

If you are a regular reader you know that our perpetual advice to avoid China’s stepped up enforcement against foreigners is to do whatever you can to make sure neither you or your company become low hanging fruit for such enforcement. What does that mean for right now? It means the following, in a way that has become more pressing than ever before:

How to form a china wfoe

Our China lawyers are often asked about the steps it takes to form a China WFOE. So often, in fact, that we long along drafted a stock response to that question. Figuring this response would be helpful to you-all, our faithful readers, I am running it below. Please note that the below is a generic roadmap for WFOE formation and the exact details for forming a WFOE in China will depend on, among other things, the WFOE’s business scope and the city/district in which the WFOE will be formed.

Generally, if all goes smoothly, the overall process will typically take 3-5 months. We do not breakdown each of the steps as to time because the time involved for each step can vary wildly, depending on (for instance) how long it takes to prepare financial information, negotiate a lease, obtain documents from the landlord, authenticate relevant documents, and validate the corporate structure. Lately though the Chinese authorities have been quite efficient in processing applications, at least in the major cities and usually once we have provided them with all of the requested information in the exact format they need, they usually provide a response within 2-3 weeks. It is getting to that point that takes so much time.

Generic WFOE Formation – Roadmap

A. Name Approval Application

  1. WFOE Investor(s): corporate structure chart, authenticated corporate documents, passports and other documents identifying key personnel.
  2. Business Scope: define scope of business.
  3. Registered Capital: determine amount of capital to be invested, pursuant to financial projections.
  4. Total Investment Amount: determine maximum investment amount (capital + investor loans).
  5. Capital Contribution Timeframe: default is within 30 years.
  6. Proposed Chinese Name(s) for WFOE: at least 6-10 choices.
  7. WFOE Address: dependent on lease/office space.
  8. Name Approval Application Form: prepared by your lawyers, signed by client.

B. During Formation Process

  1. Select accountant.
  2. Select bank.
  3. Draft labor and employment documents: employment agreements, WFOE rules and regulations, non-compete agreements, confidentiality agreements, etc.

C. Post-Formation

  1. Open bank account.
  2. Carve chops.
  3. Open social insurance accounts and begin tax reporting.
  4. Other post-formation activity as relevant.

For more on what it takes to form a China WFOE, check out the following:

How to avoid the china tariffsAs has been widely reported, the United States and China agreed to a temporary “cease fire” in the current round of tariff escalation. This happened this weekend at the G20 meeting in Argentina and the formal results of the meeting are not known. However the White House has issued a press release that outlines the basic terms of the deal that was cut in Buenos Aires.

On the tariff issue, there are two components to the G20 agreement:

First: The U.S. had threatened to raise tariffs on $200 billion in Chinese product from 10% to 25% effective January 1, 2019. In exchange for the United States not raising tariffs in January, China has agreed to purchase a “substantial, amount of agricultural, energy, industrial, and other product from the United States” so as to reduce the trade imbalance between the the U.S. and China. Note the following regarding this:

First,

  1. The list of products has not been determined.
  2. The purchasing dates have not been determined.
  3. This kind of agreement is standard. China obtains concessions in return for agreeing to purchase products but it never does purchase the products as promised. There is zero doubt the US negotiators are well aware of this predilection.
    The trade deficit is not the core basis of the United State’s Section 301 claim against China. So even if China makes these purchases, this does nothing to address the issues that support the imposition of the existing and proposed tariffs.

Second, the parties will enter into negotiations over a 90 period. These negotiations will be designed to resolve the issues that actually do form the basis of the U.S.’s Section 301 claim against China. As summarized by the White House, the US and China will discuss forced technology transfer, intellectual property protection, non-tariff barriers, cyber intrusions and cyber theft, services and agriculture. None of these issues can be resolved by China merely increasing its purchases of U.S. goods and services. The White House release then states in absolute terms:

If at the end of this [90 day] period of time, the parties are unable to reach an agreement, the 10% tariffs will be raised to 25%.

As someone who has been involved with these sorts of China IP issues for decades, I view the odds at near zero that China will make significant and meaningful changes in their system on the issues that will be discussed.  This means that if the White House is serious about its absolute deadline the chances of the tariff rate being increased come March are nearly 100%. However, tariffs are very unpopular in the U.S. business community, so it is not at all clear what Trump will actually do 90 days from now.

All of this means the new normal is still operative for China-United States business relations and U.S. companies that are doing business in China should us the next 90 days to make their plans on (a) how to begin or continue relations with their Chinese counterparts and (b) whether and how to move to other countries to mitigate the continuing China risk.

What will you do?

Doing business in Thailand

 

By: John DiDominic*

With all that has been happening with China lately on trade, Thailand is emerging as a highly attractive investment destination. Thailand has consistent and well-defined investment policies, increasing regional connections, and a government committed to improving its transportation infrastructure. It also (for the most part) has had long-term political and economic stability.

Thailand is Southeast Asia’s second largest economy with a well-established market system. In addition to being an attractive production base, its 70 million people make for a dynamic consumer market.

Thailand is well located between India and China and it shares maritime boundaries with Vietnam, Indonesia, and India. Thailand is the anchor economy for the neighboring developing countries of Laos, Myanmar and Cambodia and it is strategically located to serve markets in and beyond Southeast Asia.

The business climate in Thailand is welcoming to foreign investment and further deregulation and trade liberalization are taking place on many fronts, largely driven by Thailand’s participation in the Association of Southeast Nations (ASEAN) Economic Community (AEC). According to a recent World Bank study Thailand’s business climate has improved considerably since 2013 and it now ranks as the second most promising economy in East Asia. The World Bank rightly describes Thailand as “one of the great development success stories. Due to smart economic policies it has become an upper middle income economy and is making progress towards meeting the Sustainable Development Goals.” The World Bank Group’s 2017 Doing Business report “ranks Thailand in 26th place among 190 economies in the ease of doing business for small and medium enterprises around the world, up from 48th place when applying the same methodology to last year’s and this year’s data. The report also recognizes Thailand as one of top 10 economies that have improved most in the ease of doing business in the last year worldwide.” China came in at number 78.

Thailand is already a major destination for foreign direct investment and China’s trade problems have put that into hyperdrive. I moved to Thailand to live and work in 2007 and this is the best I’ve ever seen it.

Thailand 4.0

Thailand’s industrial sector is looking to move up the value chain and expand its capabilities to produce greater value-added products in a variety of modern industries.  These include the fields of Robotics, Medicine, Aviation, Advanced Manufacturing, Biotechnology, Nanotechnology, Advanced Material Technology, and Digital Technology. These efforts are known as Thailand 4.0, a master plan to move the country from one of an abundance of cheap unskilled labor to an innovation-based value economy. This strategy seeks to spur industries to progress up the technology ladder.  Thailand 4.0 mandates broad reforms that address economic stability, ease of doing business, human capital, equal economic opportunities, environmental sustainability, competitiveness, and effective government bureaucracies.

Incentives

In the current competitive global marketplace, simply possessing a favorable geographic location, efficient infrastructure, stable government and stable access to natural resources is often not enough to attract interest from multinational businesses searching for the optimal placement of their next factory. To stay ahead of regional rivals in competing for finite investment dollars, Thailand offers several financial and other incentives for companies keen to set up shop there. These incentives can vary by product and location but include the following:

·         Tax Incentives:

o   Exemption of up to 15 years on corporate income tax for certain industries

o   ASEAN’s second-lowest corporate tax rate (20%)

o   Double deductions for transportation, electricity and water supply costs

o   An additional 25% deduction for the cost of installing or constructing facilities

o   Exemptions on import duties for some essential materials and machinery

o   Tax deductions of up to 300% for qualified R&D expenditures

o   Tax deductions of 200% for qualified expenditures made in intellectual property acquisition and licensing fees for commercializing technology, technology training; donations to specific research and training institutions, and sourcing support

·         Non-Tax Incentives:

o   Special four-year visas for skilled workers and high-level executives

o   The right to lease state land for up to 99 years.

o   Permission to bring in foreign workers, own land, and take or remit foreign currency abroad.

o   Subsidies for energy conservation programs

·         Industrial and Special Economic Zones:

o   infrastructure and logistical advantages, such as electrical power, water supply, transportation, communications and waste treatment

o   Some of these infrastructure expenses are tax-deductible.

o   Easing restrictions on cross-border traffic of goods and labor to establish cross-border supply chains.

Trade Agreements.

·         Country Agreements.  Thailand is a WTO member and has free trade agreements with China, Japan, South Korea, India, Australia and New Zealand.

·         US Treaty of Amity.  U.S. owned businesses enjoy investment benefits through the U.S.-Thailand Treaty of Amity, originally signed in 1833 (This is the United States’ second oldest treaty!).  The Treaty allows U.S. citizens and businesses incorporated in the United States or in Thailand that are majority-owned by U.S. citizens to engage in business on the same basis as Thai companies (national treatment) and exempts them from most restrictions on foreign investment imposed by the Foreign Business Act.

·         ASEAN.  Thailand’s membership in the Association of Southeast Asian Nations (ASEAN) provides businesses in Thailand the advantages of the ASEAN Economic Community, a single market of more than 600 million people covering 10 countries in the region. This enables the free flow of goods, investments, labor and capital within the community.

·         China-ASEAN.  A China-ASEAN free trade deal also helps mitigate the trade-war risk for companies trading with both the United States and China.

Summary.

Is the time right for your business in Thailand? That depends on a variety of factors specific to your business, your industry and, most importantly, your goals. But is the time right for doing business in Thailand? Yes it is.

* John DiDominic spent seven years as a management consultant with the APM Group (Thailand’s leading domestic management consulting company) in Bangkok, Thailand and he has since focused on helping foreign companies navigate and do business in Thailand. For more than a decade, John has been our law firm’s go-to person for just about anything Thailand.

China Law Professor Donald Clarke sent me a great article this week from New York Magazine, entitled, How China Drove Out Mister Softee. Professor Clarke’s email with the link said the following:

Thought you might like this. Interestingly, it is NOT a story of “guy skirts rules, naively trusts Chinese partner, gets screwed.” It’s “guy does everything absolutely by the book, has reliable Chinese partner who does not screw him, and still gets screwed by changing political atmosphere.” For him to get competition eventually is quite normal, and the competition wasn’t using a trade name similar to his. But the rules were not evenly enforced.

This is the sort of story I both love and hate. I love this sort of story because it is interesting and important but I hate it because I constantly and aggressively stress to my clients the need to follow China’s laws to the letter and with that I ought to be able to tell them that by doing so they will have no problems. I also hate this sort of story because it reveals the cynical truth that the reality is really more the opposite: if you do not follow China’s laws you will have a problem. If you do follow Chinese laws the odds of your having a problem will go way down, but hey, it is no guarantee. Truth is that as a foreign company doing business in China you will be a target and this means you must follow the laws to avoid being an easy and legal target but even if you do follow the rules you are still a target.

Quick aside. Why the Jim Carey clip about “messing with the doo?” Two reasons. One, It’s just a great clip. And two, I love soft-serve ice cream and I have fond memories of eating Mr. Softee ice cream when visiting my grandmother in New Jersey. So I see China’s messing with Mister Softee as the equivalent of “messing with the doo.” But I digress.

So if you read the New York Magazine article, you will learn that Turner Sparks brought New York’s iconic Mister Softee trucks for the first time to China” back in 2007 and eventually built his ice cream empire to ten trucks and 25 employees in Suzhou. You will also learn the following:

Mr. Sparks did local TV and newspaper interviews and was a fixture at school and corporate events, where he and his team doled out waffle-cone soft-serve to thousands. During one corporate party at Bosch, an international electronics company, he sold $9,000 worth of $1 cones in just two hours.

Competition was scarce, because he essentially invented the Suzhou ice-cream-truck market. “All these trucks were just going nuts, doing really well. Huge lines all the time,” he told me. “Everyone knew Mister Softee.”

He planned an ambitious expansion, and lined up investors to back it: He wanted to quintuple his fleet to 50 trucks, add more storefronts, and move into new territory.

More importantly, you will learn how tough it can be to do business in China, because you will learn that instead of expanding his business in China, Mr. Sparks ended up leaving China “with just enough money to reinvent his life as a New York stand-up comic.” and that “what happened to Sparks is an illustration of how the landscape has shifted for foreign businesses in China since current premier Xi Jinping has taken over the country, and the climate has become considerably less hospitable for foreign business — small ones, in particular.”

The article talks about how things began to change for foreign companies in China starting in 1978 and how Sparks was able to build up his ice cream empire:

They created a local supply chain from scratch, finding vendors for cones, straws and soft-serve mix at a Shanghai food-and-drink expo. Using secret blueprints from Mister Softee, the truck was built in Nanjing by a company that makes telecommunications trucks, armored vehicles, and ambulances. Workers were hired from a job fair, with many long-distance drivers jumping on the opportunity to work locally and try something different. To give the soft-serve the same taste as back home, they shipped the milk in from the U.S.

Suzhou officials worked with Sparks to create a new kind of business permit for their ice-cream trucks, called a Qualified Mobile Vendor License. It let them operate the trucks, but only as “delivery vehicles” for two stores. The license also required they have a staffed office and were restricted to operate at certain spots around the city. The solicitousness of Suzhou officials wasn’t unique. All around China, local governments were inviting in foreign businesses, easing the cost of doing business with tax breaks, and giving them friendly government liaisons to help them navigate the labyrinthine bureaucracy.

Then you will learn how the ice cream empire fell apart, for reasons that will likely not be unfamiliar to most foreign companies that operate in China — taxes and thieving employees who then go out and illegally and even violently compete:

The first inclination Sparks got that things were changing was around 2012, when a local official called him into his office and accused Sparks of not paying enough in taxes.

“Immediately, I knew it was a shakedown,” he said. “This guy was an idiot. He was like, ‘There’s money, I need some.’”

Sparks declined the man’s offer and left, but says that meeting was his first experience with the corruption he’d often heard about in China. Soon after, two new drivers alerted Sparks to a longtime scam by his eight other drivers. They were quietly making extra soft-serve sales and pocketing the money for themselves. Because Mister Softee was a cash business, office workers would count drivers’ ice-cream cones at the start and end of their shifts to make sure they weren’t stealing. To circumvent that control, drivers bought their own cones. When Sparks started measuring the ice-cream mix instead, the drivers would buy extra cones and mix, too.

Eventually, he instituted random checks on drivers and fired several on the spot when they were caught with more mix in their trucks than they had at the start of the day. Soon after, his tires outside his apartment were slashed. Then a fired driver showed up at Mister Softee’s office and threatened to kill the workers there.

Things got more bizarre. In early 2013, just a few weeks after they were fired, Sparks’s former drivers resurfaced with their own unlicensed ice-cream trucks, with knockoff names including Baby Bear, Snow Princess, and Mr. Big. These drivers would park along Mister Softee trucks’ routes to poach customers. Plus, they didn’t have the special city license, which allowed them to operate without having to open storefronts or an office, and they could sell wherever they wanted.

Conway was too far away to help out as problems started cascading. Cai, meanwhile, had moved to the suburbs about an hour away and was starting another printed circuit board business, so had no time to lend a hand.

*   *   *   *

Perhaps the slashed tires and death threats were unique to Mister Softee, but local officials’ deciding to yank support was downright typical of the changing times.

For the record, nothing that happened to Mister Softee in Suzhou is “unique.”

The article then goes on to rightly note that foreign companies that bring technology or know-how that China hasn’t developed on its own are still very much welcome in China, but the others not so much. “One in four foreign businesses are scaling back in China or say they plan to, and most say they feel increasingly unwelcome, according to a 2018 survey from the American Chamber of Commerce in China.”

The article extensively quotes Anil Gupta, professor of University of Maryland’s Smith School of Business, “who’s been researching and writing about China for 25 years” and who has this to say:

Gupta added that blatant knockoff enterprises are so common in China that it’s almost a wonder Mister Softee’s easily replicated business wasn’t copied sooner. Plus, local officials and courts are more likely to back the local knockoffs to support Chinese businesses — to hell with the permits.

“With 99 percent confidence, I would say this was destined to happen,” Gupta said of Mister Softee’s fate. “I would say that God couldn’t even save this business.”

What or who exactly killed Mister Softee. China:

After receiving one-year permits for his trucks without fail from 2007 through 2012, Mister Softee’s permits were withheld without explanation and Sparks couldn’t reach government officials for months to clear up the issue. When Sparks finally heard back from government officials in mid-2013, they told him they would figure out a way to regulate the new trucks. Nearly a year later, with Sparks still operating without a new permit, officials proposed holding a lottery to dole out Suzhou permits to Sparks and the knockoff trucks. Around that time, police started ticketing Mister Softee trucks for parking illegally in spots they’d been working for years.

By 2015, it became clear the lottery would never take place and Sparks’s new round of investment crumbled.

“Part of it was a relief, to know it was over,” Sparks told me. “You feel, obviously, helpless.”

Over the next year, he wound down the business, paid his remaining staff and sold off the trucks so some others could spread the gospel of neighborhood soft-serve to nearby cities.

In early 2016 on a Friday, Mister Softee’s tumultuous foray into China quietly ended with Sparks, his lawyer, and accountant filing liquidation papers and figuring out who they still owed money to. Sparks had already sold off the office furniture to his ice-cream cone supplier.

Ignoring for a minute whether any deity could have saved Mister Softee, was there anything it could have done to survive China? Maybe. Were a company like Mister Softee come to me today, I would likely recommend that instead of going into business in China, it seek our a licensee in China for its name and its ice-cream know how and its trucks look and feel. Indeed, my law firm a few years ago did a licensing deal on behalf of a regional American ice cream that has worked out very well for the American company. I constantly find myself trying to steer clients away from what I call “theoretical massive profits” that can allegedly be realized by going into China as a WFOE or a Joint Venture in favor of a licensing or distributing deal. See Forming a China WFOE: Needed or Not. See also my Forbes Magazine on this: Want Your Product In China? Try Using A Local Distributor.

Welcome to China 2018 people.

What are you seeing out there?

UPDATE: Literally minutes after I wrote this I received an email from a China lawyer friend who said I should have talked about how Mister Softee could have prevented “at least some of its problems” by having made its employees sign non-compete agreements. I don’t think those would have worked because China’s courts generally will not enforce those against any but high level employees and I do not think ice cream truck operators would qualify as high level employees. See

the risks of doing business in China

As China governmental power continues to expand and continues to get more concerned about its slowing economy and how it is viewed by its citizens, it continues to get tough on foreign businesses. China is right now in one of its perpetual crackdowns on foreign companies doing business in China. This makes now a good time for foreign companies doing business in China or with China to determine their China risks. The following ten sets of questions are a good starting point for making that calculation.

1. How does the Chinese government view your industry? If your China business is in an industry in which foreigners are restricted (such as mining or publishing or education) or one in which China’s citizenry has major concerns (food and medicine are classic examples), your risk is likely to be high. If your China business is in an industry that requires you joint venture with a Chinese entity, your risk is also high. If your business is in an industry the Chinese government views as its own province, such as SAAS, cloud computing, the internet, or telecom, your risk is high. On the flip side, there are certain businesses (like the Internet of Things or IoT) China wants to encourage and so if your business comes within that sort of category, your risks will be reduced.

2. Are you in an industry the Chinese people consider to be their government’s responsibility, such as health care or education or environmental protection or food? A number of companies in these areas have been subject to government scrutiny for activities that probably would have been ignored in other industries.

3. Is your company primarily making money from China or spending money in China? If it is the former, you are at increased risk. Does your company have 20 foreign employees for every one Chinese employee? Your risk is high. Does your company have 300 Chinese employees for every one foreign employee? Your risk just went down.

4. Is your company based in the United States or exporting products to the United States? Your risk just went up. China is not particularly happy with the United States right now thanks to the US-China trade war. Equally important, you now need to make sure that any products you send to the United States truly come from the country from which you say they come. United States custom is checking almost everything coming from Asia these days and failing to properly label the products you are sending to the United States can bring huge penalties and jail time. See China Tariffs and What to do Now, Part 1 and China Tariffs and What to do Now, Part 2. See also China or Vietnam for Product Sourcing?

5. Are your China contracts written in Chinese for China? If so, your risks are lower. Or are you using English language template contracts written for a Western legal system (like the United States, Canada, Australia, or the EU)? If so, your risks are higher. See China Contracts: Make Them Enforceable Or Don’t Bother.

6. Do you know what your Chinese staff are doing? Chinese staff often fail to realize foreign companies are treated considerably differently in China than domestic companies, and they fail to act accordingly. Your Chinese staff will usually want to do things the “China way,” but the Chinese government and courts will be judged against the “foreign standard.” See China Compliance: Don’t Rely On Your China Staff. Do you think you can do whatever your Chinese competitors are doing? Your risk just went up. Do you believe that as a foreign company you will be more closely scrutinized and that the laws will be likely be enforced against you? Your risk just went down.

7. Are your China employment contracts and your employer rules and regulations in both Chinese and in English? If you answered yes, good for you; you have lowered your risks. See The Top Six Warning Signs of Impending China Employee Problems. Do you constantly update and audit your employment documents and procedures to make sure you are complying with all national and local employment laws and regulations? If so, you’ve greatly lowered your risks.

8. What have you done to protect your intellectual property from being lost in and to China? If you have the right contracts and the right IP registrations, you have reduced your risks. If you do not, you have increased your risks. See Protect Your IP from China Now not Later. Do you sometimes show your trade secrets to a Chinese company without first making the Chinese company sign a China-specific NNN Agreement? If you do, your IP is probably already gone.

9. What is the culture of your China business? If you are relying on “strategic” relationships to work around the letter or the intent of China’s laws, you are at greater risk. If you do not know well those with whom you are doing business, you are at greater risk. If things are happening that make you uncomfortable, you are at greater risk. If you believe things are happening at your company behind your back, you are at greater risk. If you know your company did not pay every RMB it should have paid in China taxes, you are at great risk. See China Tax Audits: The Day The Music Died.

10. Are you doing business in China without a Chinese legal entity, such as a WFOE, a Joint Venture or even a Representative Office? If you are, you are so off the charts on risk that you and your other personnel should leave China today or tomorrow. See Doing Business in China Without a WFOE: Will the Defendant Please Rise.

China’s government is surprisingly tolerant of problems a foreign company has already fixed, and even of problems a foreign company is truly trying to fix. But the Chinese government rarely tolerates a problem it discovers and about which the foreign company has done nothing. If you check out clean for the above list, congratulations. But if you do not, start making changes now.

China licensing lawyers

True confession. I have been writing too much about foreign companies looking to leave China and not enough about foreign companies looking to get into China. For the last few months, the work lives of the international lawyers at my firm have been inherently tilted towards those looking to leave China, rather than to get in. This is true for the following reasons:

  1. For every phone call or communication we get from a new client, we get 5-10 from existing clients.
  2. Existing clients do not call us to say “everything is going great in China, we’ll talk again soon.” That is not the nature of the lawyer-client relationship. No, they call us to say, “we have this problem in or with China, can you help us?”
  3. The overriding problem our clients have with China these days is the US-China trade war. It is important to note that this is true not just of our US clients, but of our European and Australian and Canadian and Latin American clients as well, because so many of those clients import made in China products into the United States.

But at the same time — and I actually this morning did the best I could with Clio and Lexicata (my law firm’s practice management and client intake software)– the number of companies contacting us to do business in China (including US companies) is much greater the first nine months of this year than the first nine months of last year — by every single possible metric. In other words, as one door is closing, another is opening.

I was reminded of this today after reading an article by Gordon Orr, entitled, Easier to Import into China? Quick aside: Gordon Orr is one of the 2-3 most knowledgable and most thoughtful writers on Linkedin and if you are not following him, you should go here and start doing so. His post needs no question mark because the answer is that it is easier to import into China today than last year and for many, cheaper too.

Orr answers his own question with “Two parts ‘YES,’ one part ‘NO,’ which translates for me to an overall “YES.”

Orr begins his article by discussing the “flood of announcements from China’s government” about how China wants to import more and of how it is moving to make imports easier. He then notes how China’s easing its lending requirements means Chinese companies are right now engorged with cash. All true.

Orr then notes how the following have increased and will continue to increase Chinese imports:

  • Streamlined customs clearance procedures to get product through at a faster pace. Investment at ports and airports will reduce logistical costs.
  • Actual tariff reductions from automotive to pharmaceutical will reduce end user prices by almost US$10bn with collected tariff rates falling to 7.5% from 9.8% last year. Tariffs for electronic equipment and machinery to 8.8% from 12.2%, duties for textiles from 8.4% from 11.5% and for paper products from 5.4% from 6.6%.
  • As trade ministers visit China, they are increasingly handed agreements to take back with them that open up access for products from their home market. For example, over the summer visits by Ministers from the UK led to announcements of the opening up of Chinese markets to UK dairy and beef products
  • Moves to make cross border ecommerce into China easier is an important move for many SMEs, for whom the cost of setting up to export to China has previously been prohibitive. The development of free trade “ports” to hold product in China duty free, the new ecommerce law holding the ecommerce platforms accountable for whether products sold on their platform are genuine, the upgrading of the teams within Alibaba and JD.com to reach out and market to potential exporters to China in dozens of countries globally have all helped SMEs to get to market at lower risk.

The bottom line is that now is a good time to be a seller of foreign products and services into China.

Our China lawyers are seeing how this import push is both directly and indirectly impacting foreign companies. The direct impact shows up with more foreign companies looking to sell into China and more companies seeing their China sales on the rise. The indirect impact shows up with more foreign companies doing brand and technology licensing and distribution deals with Chinese companies looking to leverage foreign technology and branding to their own Chinese customer base. Clio and Lexicata clearly bear this out as well, as our firm has (again, by every possible metric) seen a phenomenal increase in legal work for foreign companies doing licensing and distribution deals with China. We have even seen China be more encouraging of WFOE formations this last year than for perhaps a decade, both in terms of tax incentives and in terms of making the formation itself easier. China also recently liberalized its joint venture laws.  And just to be clear, we have neither heard nor seen American companies being treated any differently than other foreign companies on any of these fronts.

So yes, many foreign companies that manufacture in China are feeling pain these days, but foreign companies that sell in China or sell into China are thriving, perhaps like never before.

What are you seeing out there?